April 25, 2010

Goldman E-Mails Cited ‘Serious’ Profit on Mortgages

In late 2007, as the mortgage crisis gained momentum and many banks were suffering losses, Goldman Sachs executives traded e-mail messages saying that they would make “some serious money” betting against the housing markets.

The messages, released Saturday by the Senate Permanent Subcommittee on Investigations, appear to contradict statements by Goldman that left the impression that the firm lost money on mortgage-related investments.

In the messages, Lloyd C. Blankfein, the bank’s chief executive, acknowledged in November 2007 that the firm had lost money initially. But it later recovered by making negative bets, known as short positions, to profit as housing prices plummeted. “Of course we didn’t dodge the mortgage mess,” he wrote. “We lost money, then made more than we lost because of shorts.”

He added, “It’s not over, so who knows how it will turn out ultimately.”

In another message, dated July 25, 2007, David A. Viniar, Goldman’s chief financial officer, reacted to figures that said the company had made a $51 million profit from bets that housing securities would drop in value. “Tells you what might be happening to people who don’t have the big short,” he wrote to Gary D. Cohn, now Goldman’s president.

Actions taken by Wall Street firms during the housing collapse have become a major factor in the contentious debate over financial reform. In his weekly radio address on Saturday, President Obama said Wall Street had “hurt just about every sector of our economy” and again pressed the case for tighter regulation. On Monday, Senate Democrats will try to prevent a Republican filibuster in the first major test of the administration’s effort to push through legislation.

Goldman on Saturday denied it made a significant profit on mortgage-related products in 2007 and 2008. It said the subcommittee had “cherry-picked” e-mail messages from the nearly 20 million pages of documents it provided. This sets up a showdown between the Senate subcommittee and Goldman, which has aggressively defended itself since the Securities and Exchange Commission filed a security fraud complaint against it nine days ago. On Tuesday, seven current and former Goldman employees, including Mr. Blankfein, are expected to testify at a Congressional hearing.

Carl Levin, Democrat of Michigan and head of the Permanent Subcommittee on Investigations, said that the e-mail messages contrasted with Goldman’s public statements about its trading results. “The 2009 Goldman Sachs annual report stated that the firm ‘did not generate enormous net revenues by betting against residential related products,’ ” Senator Levin said in a statement Saturday. “These e-mails show that, in fact, Goldman made a lot of money by betting against the mortgage market.”

The messages appear to connect some of the dots at a crucial moment of Goldman history. They show that in 2007, as most other banks hemorrhaged money from plummeting mortgage holdings, Goldman prospered.

At first, Goldman openly discussed its prescience in calling the housing downfall. In the third quarter of 2007, the investment bank reported publicly that it had made big profits on its negative bet on mortgages.

But by the end of 2007, the firm curtailed disclosures about its mortgage trading results. Its chief financial officer told analysts that they should not expect Goldman to reveal whether it was long or short on the housing market. By late 2008, Goldman was emphasizing its losses, rather than its profits, pointing regularly to write-downs of $1.7 billion on mortgage assets in 2008 and not disclosing the amount it made on its negative bets.

Goldman and other firms often take positions on both sides of an investment. Some are long, which are bets that the investment will do well, and some are shorts, which are bets the investment will do poorly.

Goldman has said it added shorts to balance its mortgage book, not to make a directional bet on a market collapse. But the messages released by the subcommittee Saturday appear to show that in 2007, at least, Goldman’s short bets were eclipsing the losses on its long positions.

In May 2007, for instance, Goldman workers e-mailed one another about losses on a bundle of mortgages issued by Long Beach Mortgage Securities. Though the firm lost money on those, a worker wrote, there was “good news”: “we own 10 mm in protection.” That meant Goldman had enough of a bet against the bond that, over all, it profited by $5 million.

On Oct. 11, 2007, one Goldman manager in the trading unit wrote to another, “Sounds like we will make some serious money,” and received the response, “Yes we are well positioned.”

Documents released by the Senate committee appear to indicate that in July 2007, Goldman’s accounting showed losses of $322 million on positive mortgage positions, but its negative bet — what Mr. Viniar called “the big short” — brought in $373 million.

As recently as a week ago, a Goldman spokesman emphasized that the firm had tried only to hedge its mortgage holdings in 2007.

The firm said in its annual report this month that it did not know back then where housing was headed, a sentiment expressed by Mr. Blankfein the last time he appeared before Congress.

It is not known how much money in total Goldman made on its negative housing bets. Neither Goldman nor the panel issued information about Goldman’s mortgage earnings in 2009

In its response Saturday, Goldman Sachs released an assortment of internal e-mail messages. They showed workers disagreeing at some junctures over the direction of the mortgage market. In 2008, Goldman was stung by some losses on higher-quality mortgage bonds it held, when the crisis expanded from losses on risky bonds with subprime loans to losses in mortgages that were given to people with better credit histories.

Still, in late 2006, there are messages that show Goldman executives discussing ways to get rid of the firm’s positive mortgage positions by selling them to clients. In one message, Goldman’s chief financial officer, Mr. Viniar, wrote, “Let’s be aggressive distributing things.”

Goldman also released detailed financial statements for its mortgage trading unit. Those statements showed that a group of traders in what was known as the structured products group made a profit of $3.69 billion as of Oct. 26, 2007, which more than covered losses in other parts of Goldman’s mortgage unit.

Several traders from that group will testify on Tuesday.

The messages released by Goldman included many written by Fabrice Tourre, the executive who is the only Goldman employee named in the S.E.C. complaint. They reveal his skepticism about the direction of the subprime mortgage market in 2007. In a March 7 message to his girlfriend, he wrote, “According to Sparks, that business is totally dead, and the poor little subprime borrowers will not last so long.” He was referring to Dan Sparks, then the head of Goldman’s mortgage trading unit.

The Senate announced that it would convene a hearing on Goldman Sachs within a week of the S.E.C.’s fraud suit. Some members of Congress questioned whether the two investigations had been coordinated.

Mr. Levin’s staff said there was no connection between the two investigations. The subcommittee issued subpoenas to Goldman on June 30 last year and again on March 12, and informed Goldman about who would be called as witnesses on April 5. The S.E.C. has said there was no political motivation in the timing of its complaint.

Among the lawyers Goldman has hired to deal with the Senate inquiry are Michael D. Bopp, a partner at Gibson, Dunn & Crutcher, and K. Lee Blalack II, a partner at O’Melveny & Myers. Both men once worked as lawyers for the subcommittee